This Just In: Upgrades and Downgrades

At The Motley Fool, we poke plenty of fun at Wall Street analysts and their endless cycle of upgrades, downgrades, and "initiating coverage at neutral." Today, we'll show you whether those bigwigs actually know what they're talking about. To help, we've enlisted Motley Fool CAPS to track the long-term performance of Wall Street's best and worst.

All aboard Alcatel?
Just before everyone went home for the weekend, Alcatel-Lucent (NYSE: ALU  ) raised a finger, cleared its throat, and announced: "Just one moment, folks. We've got something you might want to hear ..." And then it blew out the box (relatively speaking).

On Friday, the company gave us the rundown of its first quarter results:

  • Sales up 15% to $5.3 billion.
  • Revenues up 40% at the North American unit, where everyone from Verizon (NYSE: VZ  ) to Sprint Nextel (NYSE: S  ) to AT&T (NYSE: T  ) is busily upgrading networks and competing for customers.
  • And a $15 million loss. Which sounds bad, but when you consider the company lost $744 million in last year's first quarter, it doesn't sound quite so bad after all. It's also worth pointing out that with a loss of less than a penny a share, Alcatel handily outperformed consensus estimates of a $0.04-per-share loss.

Commenting on the results, Alcatel CFO Paul Tufano noted that "exponential" increases in "video traffic" from sites like Netflix (Nasdaq: NFLX  ) and YouTube are a key phenomenon driving the need for comms providers to invest -- and buy comms gear from Alcatel.

Wall Street wondering
The Street's reaction to Alcatel's news was ... how shall I put this? Mixed, at best. On one hand, Jefferies gave the news a standing ovation, praising Alcatel's "strength in Q1 margins and the reaffirmation of 2011 margin guidance," and raising its price target on the stock 13% to $8 a share. On the other, local analyst Societe General was less impressed. So very unimpressed, that it downgraded Alcatel from hold to sell.

Because Societe does not report its rating through Briefing.com, we're at a loss as to precisely what it was about Alcatel's results that so upset the analyst. Perhaps it was the fact that Alcatel merely maintained its guidance of 5% operating margins for the year. Perhaps it's the fact that the company continues to qualify this statement, and refuses to discuss anything other than "adjusted" operating margins. What we do know, though, is between these two analysts, Jefferies has so far been right about Alcatel. In contrast, and depending on how long it's been "neutral" on the stock, it would seem Societe has been wrong.

And so have I.

Foolish final thought
Now mind you, I'm still not entirely convinced that Alcatel's a buy. Personally, I've always invested in businesses with an eye to making a profit -- and Alcatel's not there yet. While it lost only $15 million last quarter, it still lost $15 million. In contrast, whatever you think about Cisco and Juniper Networks (NYSE: JNPR  ) , those two are at least earning a profit. That said, while I find it hard to attach a value to Alcatel's stock until such time as it earns an actual profit, and am still inclined to side with Societe General in its conservative stance ... the facts are undeniable: So far, Jefferies has had the better feel for this stock.

Make that almost "final"
One final note, and this one is for FCF-wonks only. Up at the top of its earnings report, Alcatel claims to have generated "Operating cash flow of Euro 169 million." Don't believe it.

Turns out, Alcatel had to twist and separate the definitions of "operating cash flow" and "cash flow from operations" in order to make that claim. Without going too wonky on you, Alcatel tells us it generated positive "operating cash flow" in Q1 -- so long as you take out all "changes in working capital" and also "interest/tax paid, restructuring cash outlay and pension & OPEB cash outlay." In short, Alcatel has a sort of pro forma OCF concept all its own.

Meanwhile, after briefly emerging into positive territory in Q4 of last year, true "cash flow from operations" at the company has once again turned negative. Alcatel's business consumed $113 million in real cashflow in Q1 -- then tossed $192 million worth of capital expenditures on the cash-burning bonfire. End result: free cash flow of negative $305 million for the quarter, with the further result that Alcatel's net cash balance declined by $365 million over the past three months.

My take: Whatever Alcatel tells you, it's still burning cash -- and the balance sheet proves it.

Fool contributor Rich Smith does not own (nor is he short) shares of any company named above. You can find him on CAPS, publicly pontificating under the handle TMFDitty, where he's currently ranked No. 490 out of more than 170,000 members. The Motley Fool has a disclosure policy.

Juniper Networks is a Motley Fool Big Short short-sale selection. AT&T is a Motley Fool Inside Value pick. Netflix is a Motley Fool Stock Advisor choice. The Fool has created a bull call spread position on Cisco Systems. Alpha Newsletter Account, LLC has opened a short position on Juniper Networks, bought puts on Netflix, and owns shares of Cisco Systems.

Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors.


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